Rehypothecation is the ability to re-use assets that one has received as collateral against an obligation of one's own. Rehypothecation is standard practice in the bilateral market. For example, as illustrated in FIG. 2, two parties A and B have a relationship where A acts as the Borrower and B as the Lender. A delivers collateral to B to meet an obligation against borrowed cash or stock. B then re-uses, or rehypothecates, the collateral to satisfy its own obligation with C. C performs the same exercise as B, satisfying an obligation with D. D is the final lender in the ‘rehypothecation chain’. This concept can be extended, with multiple re-use branches across many different counterparties.
Historically, participants in the securities lending and repurchase agreement lending markets have received and re-used assets. This re-use was facilitated in the eighties with the dematerialization of securities markets and the deregulation regarding registration and reporting. However, collateral re-use can lead to a problem in satisfying recalls. When a relatively illiquid asset has been re-used a number of times and then is recalled, satisfying that request can be difficult. Each counterparty along the chain must recall the security or go into the market and borrow it in the market. With market movements required for every step, sometimes the asset is not recalled quickly enough.
In many ways, the continual re-use of assets is what led to the development of tri-party service with its greater certainty of recall. The tri-party space involves the introduction of agent acting as an intermediary between the contracting parties. The greater certainty stems directly from the fact the assets held in favour of the lender are under the control of the tri-party agent and are not re-used.
Rehypothecation is a relatively new product in the tri-party space and while it unlocks the value in the assets held by lenders, it does, inevitably, introduce some of the risks that exist in the bilateral market. Current providers have attempted to reduce these risks, primarily by limiting the options available to either the borrower or the lender. One currently available system only allows one-step rehypothecation. Other systems allow unlimited re-use but are limited in the types of assets they support.
Thus, a solution is needed that provides a fully automated, unlimited re-use product that allows multiple asset types. Further, a system is needed that clearly assigns voting and income rights with respect to the collateral introducer and collateral receiver. Additionally, the system should be operable regardless of the type of underlying obligation.